Reviewing the literature on Dutch disease, we document that shocks that trigger foreign exchange inflows (such as natural resource booms, surges in foreign aid, remittances, or capital inflows) appreciate the real exchange rate, generate factor reallocation, and reduce manufacturing output and net exports. We also observe that real exchange rate misalignment due to overvaluation, and higher volatility of the real exchange rate, lower growth. Regarding the effect of undervaluation of the exchange rate on economic growth, the evidence is mixed and inconclusive. However, there is no evidence in the literature that Dutch disease reduces overall economic growth. Policy responses should aim at adequately managing the boom and the risks associated with it.

As elections are approaching, it seems that the good equilibrium (as per my posting on March 26) is more likely. The market has not—so far—reacted running against central bank’s reserves. This is good news. The purpose of this update is to elaborate on why this equilibrium resulted and what could be expected after the elections. […]

At this point, it seems that the government response to the financial crisis (aside from monetary policy) consists of two main elements. On the one side, a fiscal stimulus package; on the other hand, a financial rescue program.

The following piece, although focused on Argentina, applies to other populist governments in Latin America. With potential differences in timing and levels, Venezuela, Bolivia, and Ecuador come to my mind.

Fiscal deficit started in December, and might increase. Current account worsened substantially, and it does not look nice. Thus, the exogenously driven twin surplus seems to be mutating to an endogenous twin deficit. Let me elaborate on this.

As is widely known, Keynes posed that “in the long-run we are all dead”, as well a role for counter-cyclical fiscal policy.

In Argentina, the statement that in the long-run we are all dead is a way of living for many people. Uncertainty reigns. Thus, when a negative shock hits the median citizen the more likely response is to increase expenditures instead of saving. Why? Well, since this median citizen is not sure if he/she will be able to spend in the future—due to the effects of the shock—then he/she will choose to consume today while he/she can. That is one way of thinking that in the long-run we are all dead. Any standard model in economics that you use to rationalize your “optimal” behavior, on the contrary, will generally make you choose to “save for a rainy day: in response to temporary positive shocks. In other words, you need to smooth your consumption intertemporally so as to maximize your utility.

In a recent paper, jointly with Sebastian Galiani and Daniel Heymann, we analyze the effects of the 2008 commodities’ price spikes on income distribution. We mainly focus on resource-rich economies (especially those related to foodstuff) but our analysis is general enough to encompass a broader set of economies—as shown. We put special emphasis on the role played by the non-tradable sector. Since in one way or another the reaction of governments has been tariffs, export taxes, or quantitative restriction (just to cite a few), we incorporate this into the analysis. Importantly, the model is able to explain the implications of the distributive tensions observed. Among the most salient ones is the redistributive conflicts between urban labor (skilled vs. unskilled), as opposed to the traditional study of tensions between landlords and urban labor. A summary follows.

Fiscal Accounts Shortage (flows). In response to the crises, the government has announced a battery of government expenditures’ increases and (subsidized?) credit supply with the pension funds recently nationalized—very likely reducing the rate of return to future retirees instead of increasing them, the main official argument for nationalizing these funds in the first place. I argued in a previous post about the contractionary effects of these measures. This seems to be exacerbated by the fact that tax revenues are markedly slowing down—as predicted (not by the government, though). Unfortunately, this seems to be just the starting point, as tax revenues are likely to contract in real terms in the short-run, while spending seems to be on the rise.

In an article published in The Journal of Macroeconomics[1] I show how information frictions could lead to asymmetric business cycles both in terms of magnitude and of the length of the return to trend. Negative shocks are amplified more than positive ones; also, negative shocks depict rapid contraction while the recovery is more protracted.